A Short History of Bitcoin

So Bitcoin is a virtual currency. But how did Bitcoin come about? How did Bitcoin evolve from concept to the most popular virtual currency today? Michael Miller explains the history of virtual currency and Bitcoin in this chapter from The Ultimate Guide to Bitcoin.

This chapter is from the book

This chapter is from the book

Virtual Currency Before Bitcoin

Although Bitcoin is the best-known virtual currency, it wasn’t the first. In fact, Bitcoin is just the latest of a multitude of schemes designed to supplement or replace traditional money.

E-gold

One of the first virtual currencies was E-gold, founded in 1996. E-gold was unique in that its virtual currency was backed by real, honest-to-goodness gold bullion. In essence, trading E-gold was basically the same as swapping gold ownership, but anonymously.

At its peak, in 2008, E-gold claimed more than five million user accounts. However, the anonymous nature of the currency made the service very attractive to crime syndicates looking to launder their dirty dollars into cleaner cash. Weak security systems also contributed to an influx of hacking and fraud from these same crime syndicates.

All of this led the U.S. government to get involved, and in 2008 the company’s management pleaded guilty to money laundering and operating an unlicensed money transfer business. The Feds froze all user accounts, amounting to more than $86 million in E-gold. The company itself closed its doors the following year.

By the way, E-gold was just one of several similar virtual gold payment systems back in the day. Competitors included GoldMoney and e-Bullion, which appeared equally shady. (E-Bullion’s owner was eventually arrested on charges of running an illegal money transfer business and of paying three hit men to stab his wife to death. Good folks there.)

Beenz and Flooz

In 1998, an interesting new website called Beenz.com was launched. The idea behind Beenz.com is that you could earn virtual currency (called Beenz) for performing a variety of online activities, such as visiting certain websites or shopping online. The Beenz you earned could then be spent on various online goods and services.

The site tried to position itself as “the web’s currency” that would challenge the world’s traditional currencies. That it didn’t succeed is now obvious. In fact, Beenz had a very short life, closing its virtual doors in 2001. It never got past the challenge of convincing governments around the world that it really wasn’t establishing a new currency, or of convincing users that it wasn’t all a big scam.

Similar to Beenz was Flooz, which was promoted by none other than comedian Whoopi Goldberg. Flooz was as big a joke as Beenz was, and operated in much the same fashion, trying to establish a unique online currency for use with Internet merchants. Flooz launched in 1999 and closed in 2001, never having attracted much of a user base.

Q Coins

The Chinese Internet service provider Tencent has a very successful instant messaging service called QQ. Back in 2002, QQ developed its own internal virtual currency, called Q Coins, that customers could use to purchase various virtual goods and services, such as extra storage space, virtual pets, and online game avatars.

Over the next few years, various non-QQ online merchants began accepting Q Coins for real-world goods and services. More than 100 million Chinese ended up using Q Coins, generating a trading volume in Q Coins of several billion yuan a year. Eventually, Q Coins ended up being so popular that they were being traded on China’s black market for whatever it is that the Chinese trade on the black market. This so concerned the Chinese government that it eventually cracked down on the real-world trading of Q Coins—although they’re still used today within the QQ service.

(China’s experience with Q Coins no doubt led to their recent crackdown in Bitcoin trading. They’ve been through all this before.)

Linden Dollars

The concept of virtual currency makes a lot of sense within online virtual worlds. Case in point, the virtual world of Second Life and its very popular virtual currency, Linden Dollars.

For those unfamiliar with virtual worlds, these are online communities that take the form of interactive simulated environments—kind of like a massive multiplayer video game. Users inhabit the world’s graphical three-dimensional environment and interact with one another via cartoon-like avatars, often participating in virtual activities and—this is important—economies.

The economy part comes in when users want to buy things within the virtual world, such as virtual clothing for their avatars, virtual housing, virtual entertainment, you name it. For this reason, most virtual worlds have their own unique virtual currencies that can be spent only within the confines of the online world.

Thus it was with Second Life, which was one of the—if not the—most popular virtual worlds. Second Life was developed by a company called Linden Lab back in 2003, and its proprietary virtual currency was dubbed Linden Dollar. Users could purchase Linden Dollars (abbreviated L$) using U.S. dollars and other real-world currency on Second Life’s LindeX exchange, or from other users or independent brokers.

Buying Linden Dollars in Second Life.

Second Life and its Linden Dollar currency became so popular that tons of real-world companies, including American Apparel, Reebok, and Ford, established presences within Second Life. These companies accepted payment for both virtual and real-world goods and services in Linden Dollars.

The growth in Second Life and its virtual currency eventually led serious investors to speculate in Linden Dollars. In fact, virtual investment banks arose to facilitate Second Life currency trading.

All good things come to an end, however. In 2007, Second Life virtual investment bank Ginko Financial collapsed, leaving users unable to retrieve approximately $750,000 worth of Linden Dollars that had been invested. This led to Linden Labs officially banning all virtual banks in Second Life, as well as removing all objects related to in-world virtual banking.

Over the next several years, interest in Second Life began to wane. Second Life is still around, but it’s a shadow of its former self. You can still trade Linden Dollars for U.S. dollars (and other currency), but you’d be hard-pressed to find many buyers.

Facebook Credits

In-world virtual currencies are not the sole province of online games and virtual worlds. Many bit-time social media sites have at least experimented with the concept of their own proprietary virtual currencies.

Take Facebook, for example. In 2009 Facebook began testing the concept of Facebook Credits, which could be used to pay for in-game goods and services on the Facebook site. Facebook Credits went live in January 2011, and users could purchase 10 Facebook Credits for one U.S. dollar.

Much to Facebook’s chagrin, Facebook Credits never really took off. Facebook killed the project in June of 2012, converting all remaining Facebook Credits into standard dollar (or other currency) credits to users’ accounts.

And More...

As you can see, a plethora of various virtual currency schemes have been floated (and mainly sunk) over the past 15 years or so. In addition to the currencies already mentioned, you run across others such as Dexit, DigiCash, eCache, eCash, InternetCash, Pecunix, and WebMoney. (Google them if you’re interested.) What all these virtual currencies have in common is that they are failures. For one reason or another, none of these virtual currencies managed to make it into the mainstream; at best, some existed within their own virtual worlds, but that’s the extent of it.

That doesn’t mean that all virtual currencies are destined to fail, however. Which brings us to the next stage in our history lesson: the birth of Bitcoin.

Gold Farming

The concept of in-world or in-game virtual currencies is an interesting one—especially when you layer in the ability to trade online goods for real-world currency. Here’s what happens.

Game players want to buy virtual things in their virtual worlds, but don’t want to (or can’t) build up the currency via normal in-world means. So they pay other players real-world cash for the in-game currency that the other players have built up by playing the game. In other words, if you want to level up, you can pay for some other player’s tokens that get you to that level.

The problem comes when individuals or groups of individuals start doing this for a profit—that is, selling their in-game credits for real money. This is called gold farming, and it’s a real thing. (And a big enough deal that many games ban the practice.)

It’s also a source of something resembling slave labor. Apparently, work camp inmates in China have been forced to play online games to accumulate online goods and credits that are then sold for real-world currency. It’s kind of a virtual sweatshop, when you think about it.